By 2009 Mr Cardell decided to acquire another office furnitu

By 2009, Mr. Cardell decided to acquire another office furniture company. On July 1, 2009, the Holton-Central bankruptcy judge accepted Belmont’s $4,765,000 offer for Holton-Central’s assets and accounts payable. The $4,765,000 purchase price equaled the market value of the tangible assets, minus $875,000 of accounts payable, plus $265,000, which Mr. Cardell considered goodwill:

Raw material inventory                                         $175,000

Work-in-process inventory                                   $220,000

Finished goods inventory                                     $115,000

Equipment (5-year life)                                         $450,000

Building (20-year life)                                         $3,600,000

Land                                                                       $815,000

     Total tangible assets                                         $5,375,000

Less: Accounts payable                                         $875,000

     Net tangible assets                                            $4,500,000

Goodwill                                                                  $265,000

     Total purchase price                                           $4,765,000

July 1, 2009, the acquisition was completed as follows:

1. Belmont Office Furniture formed Holton-Central Holdings and paid $3.9 million for all 3,900,000 shares of Holton-Central Holdings’ $.01 par value common stock.

2. Holton-Central Holdings borrowed $6,000,000 to help Holton-Central exit from bankruptcy; the principal would be repaid in six $1 million payments each July 1, beginning July 1,2010. Also, due each July 1, beginning July 1,2010, was 10% interest on the unpaid balance as of the previous July 1.

3.   Holton-Central Holdings paid $4,765,000 cash for the assets of Holton-Central Inc., ans assumed the firm’s $875,000 of accounts payable.

July 2, 2009–December 31, 2009

Mr. Cardell’s first action was to close four furniture showrooms in Chicago, Los Angeles, New York and Atlanta, because the leases had been cancelled in bankruptcy. These closures would save $950,000 annually; Mr. Cardell believed sales would decline only marginally. He also negotiated a more favorable labor contract with former employees, which would save another $750,000 annually. On July 2, 2009, the firm reopened for business. The following is a summary of Holton-Central’s activity for the second half of 2009:

1. Paid the $875,000 of accounts payable.

2. Paid $154,500 for utilities, professional services and other administrative expenses.

3. Paid $1,408,000 for office wages and related payroll taxes and benefits.

4. Paid $2,785,000 for selling and marketing expenses.

5. Paid $900,000 for production machinery. The machinery was purchased October 1, 2009. The machinery had a useful life of five years with no salvage value.

6. Paid $228,000 for various one-year insurance policies.

7. Purchased $5,345,000 of raw material; $835,000 was unpaid as of December 31, 1998.

8. Manufacturing records showed $4,935,000 of raw material transferred to work in process.

9. Paid $7,878,000 in cash for production wages and charged the costs to work-in- process inventory.

10. Charged $6,662,000 to work-in-process inventory for manufacturing overhead items, including $6,400,000 paid in cash and $262,000 for depreciation on manufacturing facilities.

11. Manufacturing records showed $19,123,000 of work-in-process inventory transferred to finished goods inventory.

12. Sold chairs for $25,563,000. Of that, $4,587,000 had not been paid as of December 31, 2008.

13. Manufacturing records showed cost of goods sold of $18,593,000.

14. Recorded depreciation expense of $86,000.

15. Recorded accrued interest expense.

16. Recorded insurance expense of $95,000.

17. In late December, Mr. Cardell received a call from Holton-Central’s largest customer. To cut costs, previous management had substituted a low-grade fabric on 1,800 chairs that the customer purchased in 2008 and 2009. Repairing those chairs would cost $360,000. Mr. Cardell estimated that customers would request repairs to another several thousand chairs, which would cost another $560,000. Although that liability was discharged in bankruptcy, Mr. Cardell believed failure to repair the chairs would irreparably damage the firm’s reputation. He notified customers that Holton-Central would repair the chairs at no cost.

18. Computed income tax expenses of $365,000 for 2009, payable in 2010.

Required

Prepare and record journal entries for Holton-Central’s sale of stock, incurrence of debt, and the   18 activities listed above.

Prepare a balance sheet as of December 31, 2009, and an income statement and statement of cash flows for the period July 1, 2009, through December 31, 2009.

Evaluate Holton-Central’s performance during its first six months of operations.

Solution

Date Account Title Debit Credit 2009 1-Jul Cash 3900000 Common stock(3900000*0.01) 39000 APIC-Common stock 3861000 Cash 6000000 Debt 6000000 Raw materials inventory 175000 WIP Inventory 220000 Finished goods inventory 115000 Equipment 450000 Building 3600000 Land 815000 Goodwill 265000 Accounts payable 875000 Cash 4765000 1 Accounts payable 875000 Cash 875000 2 Utilities ,etc. 154500 Cash 154500 3 Wages expense 1408000 Cash 1408000 4 Selling expense 2785000 Cash 2785000 5 Production machinery 900000 Cash 900000 6 Insurance expense 228000 Cash 228000 7 Raw materials inventory 5345000 Cash 4510000 Accounts payable 835000 8 WIP inventory 4935000 Raw materials inventory 4935000 9 WIP inventory 7878000 Cash 7878000 10 WIP Inventory 6662000 Cash 6400000 Accumulated depreciation 262000 11 Finished goods inventory 19123000 WIP Inventory 19123000 12 Cash 20976000 Accounts receivables 4587000 Sales Revenue 25563000 13 COGS 18593000 Finished goods inventory 18593000 14 Depreciation expense 86000 Accumulated depreciation 86000 15 Interest expense 300000 Interest payable 300000 (6000000*10%/2) 16 Prepaid Insurance 133000 Insurance expense 133000 (228000-95000) 17 Repair expenses 920000 Liability for repair 920000 (360000+560000) 18 Income tax expense 365000 Income tax payable 365000 111793500 111793500 LEDGER ACCOUNTS Net Ledger bal. 2009 Debit Credit Debit Credit 10 Accumulated depreciation 262000 14 Accumulated depreciation 86000 348000 1-Jul Accounts payable 875000 1 Accounts payable 875000 Accounts payable 835000 835000 12 Accounts receivables 4587000 4587000 1-Jul APIC-Common stock 3861000 3861000 1-Jul Building 3600000 3600000 1-Jul Cash 3900000 1-Jul Cash 6000000 1-Jul Cash 4765000 1-Jan Cash 875000 2 Cash 154500 3 Cash 1408000 4 Cash 2785000 5 Cash 900000 6 Cash 228000 7 Cash 4510000 9 Cash 7878000 10 Cash 6400000 12 Cash 20976000 972500 13 COGS 18593000 18593000 1-Jul Common stock(3900000*0.01) 39000 39000 1-Jul Debt 6000000 6000000 14 Depreciation expense 86000 86000 1-Jul Equipment 450000 450000 1-Jul Finished goods inventory 115000 11 Finished goods inventory 19123000 13 Finished goods inventory 18593000 645000 1-Jul Goodwill 265000 265000 18 Income tax expense 365000 365000 18 Income tax payable 365000 365000 6 Insurance expense 228000 16 Insurance expense 133000 95000 15 Interest expense 300000 300000 15 Interest payable 300000 300000 1-Jul Land 815000 815000 17 Liability for repair 920000 920000 16 Prepaid Insurance 133000 133000 5 Production machinery 900000 900000 1-Jul Raw materials inventory 175000 7 Raw materials inventory 5345000 8 Raw materials inventory 4935000 585000 17 Repair expenses 920000 920000 12 Sales Revenue 25563000 25563000 4 Selling expense 2785000 2785000 2 Utilities ,etc. 154500 154500 3 Wages expense 1408000 1408000 1-Jul WIP Inventory 220000 8 WIP inventory 4935000 9 WIP inventory 7878000 10 WIP Inventory 6662000 11 WIP Inventory 19123000 572000 111793500 111793500 38231000 38231000 TRIAL BALANCE Cash 972500 Accounts receivables 4587000 Prepaid Insurance 133000 Finished goods inventory 645000 WIP Inventory 572000 Raw materials inventory 585000 Land 815000 Building 3600000 Goodwill 265000 Equipment 450000 Production machinery 900000 Accumulated depreciation 348000 Accounts payable 835000 Income tax payable 365000 Interest payable 300000 Liability for repair 920000 Common stock(3900000*0.01) 39000 APIC-Common stock 3861000 Debt 6000000 Sales Revenue 25563000 COGS 18593000 Depreciation expense 86000 Insurance expense 95000 Repair expenses 920000 Selling expense 2785000 Utilities ,etc. 154500 Wages expense 1408000 Interest expense 300000 Income tax expense 365000 Total 38231000 38231000 Income statement (July-Dec.) Sales Revenue 25563000 Less:COGS 18593000 Gross profit 6970000 Less: Operating expenses: Depreciation expense 86000 Insurance expense 95000 Repair expenses 920000 Selling expense 2785000 Utilities ,etc. 154500 Wages expense 1408000 Interest expense 300000 5748500 Income before tax 1221500 Less:Income tax expense 365000 Net income after tax 856500 Balance sheet as at Dec.31 Assets Current assets Cash 972500 Accounts receivables 4587000 Prepaid Insurance 133000 Finished goods inventory 645000 WIP Inventory 572000 Raw materials inventory 585000 Total current assets 7494500 Fixed assets Land 815000 Building 3600000 Goodwill 265000 Equipment 450000 Production machinery 900000 Accumulated depreciation -348000 Total fixed assets 5682000 Total assets 13176500 Liabilities & Equity Liabilities Current Liabilities Accounts payable 835000 Income tax payable 365000 Interest payable 300000 Liability for repair 920000 Total Current Liabilities 2420000 Long-term liabilities Debt 6000000 Total Liabilities 8420000 Equity Common stock(3900000*0.01) 39000 APIC-Common stock 3861000 Retained Earnings 856500 Total Equity 4756500 Total Liabilities & Equity 13176500 Cash flow statement for July-Dec. Operating activities Net income after tax 856500 Add back depn.(86000+262000) 348000 Adj. net income 1204500 Changes to working capital: Increase in a/cs. Receivables -4587000 Increase in prepaid insurance -133000 Increase in fin.gds.inv.(115000-645000) -530000 Increase in WIP inv.(220000-572000) -352000 Increase in Raw mat.inv.(175000-585000) -410000 Decrease in a/cs.payables(875000-835000) -40000 Inc.in Income tax payable 365000 Inc.in Interest payable 300000 Inc.in Liability for repair 920000 Net change in working capital -4467000 Cash used in operations -3262500 Investing activities Purchase of Production machinery -900000 Business acquisition -4765000 Cash used in Investing activities -5665000 Financing activities Issue of common stock 3900000 Issue of debt 6000000 Cash generated from financing activities 9900000 Net cash generated 972500 Ending balance of cash 972500 Evaluation: The company has generated positive net income & overall positive cash flow due to the financing by equity & debt Collection of receivables will improve the operating cash position Figures for Ratios: Total current assets 7494500 Total Current Liabilities 2420000 Total assets 13176500 Debt 6000000 Total Liabilities 8420000 Total Equity 4756500 Cash +receivables 5559500 Current ratio= Total Current assets/Tot.Current laibilities 3.10 Above normal --Mainly because of excess reveivables Quick ratio=(cash+rec)/C.liab. 2.30 Above normal --Mainly because of excess reveivables Debt ratio= Tot.liab./Tot.assets 0.64 indicates more debt funding of assets than equity Debt/equity= 1.26 Confirms the above